Transcript Marginal Costing

Marginal
Costing
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Two Approaches to Compute
Profits
Conventional income statement
Contribution margin income statement
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Conventional Income Statement
Sales
Gross
Margin
–
Cost of
=
Goods Sold
Gross
Margin
–
Operating
=
Expenses
Net
Income
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What is Marginal costing?
• One additional unit of production is known
as marginal unit
• Change in total cost on account of adding/
subtracting one additional unit is known as
marginal cost.
• This one unit may be a product, a batch, a
order, a process or even a department
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Let’s understand it better!!
• Since fixed cost remains constant for any
variation in the volume of production up to
total capacity, Marginal cost tends to be
equal to the total of all variable expenses.
• Hence Marginal cost also described as
variable cost
• Marginal cost =Prime cost + all variable
overheads
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Contribution Margin
Income Statement
–
Variable
Expenses
Contribution
–
Margin
Fixed
Expenses
Sales
Contribution
=
Margin
=
Net
Income
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What is BREAK EVEN POINT?
• The sales volume which equates total
revenue with related costs and results in
neither profit nor loss is called
“BREAK EVEN POINT OR BREAK EVEN
VOLUME”
At BEP , PROFIT = 0
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If S= Selling price per unit
TC= Total cost
V= Variable cost per unit
F= Fixed cost
Q=units produced
Then,
TC=VQ+F
V=TC-F
Q
At Break even Point, Profit=0
SQ-VQ=F
Q=F/(S-V)
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What is Contribution?
• Contribution is excess of sales over
variable cost
• It is quite different from profit
• It first goes to meet fixed expenses and
then contributes to profit.
• C=S-VC
• C=F+ Profit
• Therefore S-VC=F+ profit
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SOME MORE EQUATIONS




S-VC= Contribution = F+PROFIT
VC=S-C
F=C-PROFIT
PROFIT=C-F
In vertical form
Sale
- variable cost
Contribution
- Fixed cost
Profit
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Contribution Margin Example
• Tom and Jerry manufacture a device that
allows users to take a closer look at
icebergs from a ship.
• The usual price for the device is Rs.100.
• Variable costs are Rs.70.
• They receive a proposal from a company
in Vashi to sell 20,000 units at a price of
Rs.85.
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Contribution Margin Example
• There is sufficient capacity to produce the
order.
• How do we analyze this situation?
• Rs.85 – Rs.70 = RS.15 contribution
margin.
• RS.15 × 20,000 units = RS.300,000 (total
increase in contribution margin)
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• Assume that fixed expenses amount to
RS.90,000.
• How many devices must be sold at the
regular price of Rs.100 to break even?
• (RS.100 × Units sold) – (Rs.70 × Units
sold) – Rs.90,000 = 0
• Units sold = Rs.90,000 ÷ Rs.30 = 3,000
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Sales price
Variable expenses
Contribution margin
Per Unit Percent
RS100
100
70
70
RS 30
30
Ratio
1.00
.70
.30
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Change in Sales Price- Example
• Suppose that the sales price per device is
Rs.106 rather than Rs.100.
• What is the revised breakeven sales in
units?
• New contribution margin: RS.106 – Rs.70
= Rs.36
• Rs.90,000 ÷ Rs.36 = 2,500 units
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Change in Variable CostsExample
Suppose that variable expenses per
device are Rs.75 instead of Rs.70
Other factors remain unchanged.
What is the revised breakeven sales in
units and in Rs.?
Rs.90,000 ÷ Rs.25 = 3,600
Rs.90,000 ÷ 0.25 = RS.360,000
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Change in Fixed Costs- Example
• Suppose that rental costs increased by
RS.30,000.
• What are the new fixed costs?
• RS.90,000 + Rs.30,000 = Rs.120,000
• What is the new breakeven point?
• Rs.120,000 ÷ Rs.30 = 4,000 units
• Rs.120,000 ÷ 0.30 = Rs.400,000
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Cost-Volume-Profit Analysis
600
Total cost
$ (000)
500
Breakeven
point
400
Variable cost
300
200
Fixed cost
100
0
0
1
2
3
4
5
Units (000)
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 BEP (units) = Fixed cost / Contribution per
unit
 BEP( Rs.)= Fixed cost/ P/V Ratio
 P/V Ratio= contribution per unit/selling price per
unit
= s - v /s
 Variable cost to Volume ratio (V/V ratio)
=1 – P/V ratio
 P/V ratio+ V/V ratio =1 or 100 %
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Important conclusions
If C=0 then loss=F
If C = - ve then loss >F
If C>F, there will be profit = C-F
If C<F , there will be loss = F-C
If C=F, no profit no loss i.e. Break even
point
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Margin of safety
The excess of the actual sales revenue over the break
even sales revenue is known as the Margin of safety.
MOS= ASR-BESR
M/S Ratio= (ASR-BESR)/ASR
Where
ASR= Actual sales revenue
BESR= Break even sales revenue
Profit= MOS * P/V Ratio
Profit = MOS (units) * Contribution margin per unit
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•
Margin of safety is the excess of expected sales
over breakeven sales.
•
Assume Tom and Jerry’s breakeven point is
3,000 devices.
•
Suppose they expect to sell 4,000 during the
period.
•
What is the margin of safety?
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4,000 – 3,000 = 1,000 units
1,000 × Rs100 = Rs.100,000
1,000 / 4,000 = 25%
Rs.100,000 / Rs.400,000 = 25%
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Compute the sales level needed to
earn a target operating income.
 Suppose that a business would be content with
operating income of Rs.45,000.
 Assuming Rs.100 per unit selling price, variable
expenses of Rs.70 per unit, and fixed expenses
of Rs.90,000, how many units must be sold?
 (Rs.90,000 + RS.45,000) ÷ Rs.30 = 4,500 units
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Assumptions of CVP Analysis
1 Expenses can be classified as either
variable or fixed.
2 CVP relationships are linear over a wide
range of production and sales.
3 Sales prices, unit variable cost, and total
fixed expenses will not vary within the
relevant range.
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4 Volume is the only cost driver.
5 The relevant range of volume is specified.
6 The sales mix remains unchanged during
the period.
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